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Buy on the Dip? 3 Reasons to Buy Illumina and Never Sell

2016 has not been a good year so far for Illumina(NASDAQ: ILMN) investors, with shares falling more than 28%, including a sizable drop in the past week. Illumina began the year with disappointing earnings in Q1, citing weakness in European markets. Investors were pleased with improving results in the second quarter, with sales up 11% year over year, only to be once again disappointed this week when management pre-announced a Q3 revenue shortfall. So is the market right? After a very rocky 2016, is now the time to be giving up on Ilumina? I don't believe so. Short-term volatility aside, as Warren Buffett famously said, "Our favorite holding period is forever." Here are three reasons to buy Illumina and never sell.

A massive and growing total addressable market

The market for Illumina's gene-sequencing machines is large and getting larger. Illumina's management has noted in the past that the total addressable market for genomics could be as large as $20 billion. And that number may still be too small-- driven by expansion in reproductive health, oncology, and population sequencing markets. Goldman Sachs has predicted that Illumina could capture 75% of the sequencing market out to 2020. With 2015 revenue totaling $2.2 billion, this could represent a greater than 600% increase moving forward.

Moat, moat, moat

With Illumina's installed base of 7,500 gene sequencing machines accounting for 75% of the total gene sequencing market, Illumina is undoubtedly the dominating force within the genomics industry. But can this market-share leadership position last? I believe the answer is a resounding yes. Illumina's instrument versatility, pinpoint accuracy, and high switching costs serve as wide moats for competitors looking to move into the rapidly growing genomics industry. Additionally, the genomics market has high barriers to entry as potential competitors must develop -- all at once -- manufacturing scalability, complex software algorithms, and molecular enzymes necessary for processing and amplifying genetic material -- the combination of which has proven notoriously difficult in the past.

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GRAIL

Finally, earlier this year, Illumina announced plans to form a new venture called GRAIL with the goal of creating a simple blood test for the early detection of all major types of cancer. This venture has received a hefty dose of publicity with the backing of two notable investors, Bill Gates and Jeff Bezos. Illumina has a 52% ownership stake in this new venture.

With at least half of U.S. cancer patients diagnosed at stage III or IV, GRAIL is looking to make a stage-shift in cancer diagnosis by detecting cancers at an earlier, curable stage. GRAIL aims to develop this pan-cancer screening test by directly measuring circulating tumor DNA (ctDNA) in the blood. CtDNA is a direct measure of cancer DNA, and will therefore most likely be superior to other biomarkers. GRAIL hopes that by combining ctDNA detection with very deep sequencing technology, GRAIL's pan-cancer screening test will detect more mutations per sample than existing cancer screens today. GRAIL plans to launch large-scale clinical trials in 2017 in order to deliver a pan-cancer test in the 2019 timeline.

Closing thoughts

I believe the recent drop in Illumina's stock price represents a solid buying opportunity for long-term investors. While this stock is chronically expensive on an earnings basis, the combination of a solid history of revenue growth with a wide switching moat, makes Illumina an attractive holding moving into the future. While word on the success of GRAIL is still far in the future, management has guided to a potentially massive addressable market. In the meantime, while investors wait on trial data, I believe Illumina will continue to outperform and reward its shareholders.

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